DRIVE SUMMER 2015

PROGRAM- MBADS/ MBAFLEX/ MBAHCSN3/ MBAN2/ PGDBAN2

SEMESTER- 1
MB0041- FINANCIAL AND MANAGEMENT ACCOUNTING
Q1 Inventory in a business is valued at the end of an accounting period, at either cost

or market price, whichever is lower. This is accepted convention or a practice in

accounting.
Give a small introduction on accounting conventions and elucidate all the eight
accounting conventions.
Answer.
Accounting Conventions
Accounting conventions are the rules based on which accounting takes place and these
rules are universally accepted. There are ten types of accounting conventions, namely
convention of income recognition, convention of expense, convention of matching cost
and revenue, convention of historical cost, convention of full disclosure, convention of
double aspect, convention of modifying, convention of materiality, convention of
consistency, and convention of conservatism. They are explained briefly in the following
sections.
1. Convention of income recognition
According to this concept, revenue is considered as being earned on the date on which it is
realised, i.e., the date on which goods and services are transferred to customers for cash or
for promise.
A sale is considered to be made when the property in goods (ownership) is transferred
from the seller to buyer.
In case of services, revenue is said to be earned when the service has been delivered.

2. Convention of matching cost and revenue

According to this concept, revenue earned during a period is compared with the
expenditure incurred to earn that income, irrespective of whether the expenditure is paid
during that period or not. This is also called matching cost and revenue principle.
Sales revenue in 2010 Rs. 50,00,000
Expenses incurred during the year Rs. 30,00,000
Expenses actually paid during the year Rs.29,00,000
Rs.1,00,000 though not paid, is still debited to the profit and loss account of 2010.
3. Convention of historical costs
This convention says that all transactions must be recorded at a value at which they were
incurred. Such a value is called Historical Cost and this principle is called the
Convention of Cost. An asset or transaction may have many other values associated with
it like market value or replacement cost. But all assets are recorded at the cost of
acquisition and this cost is the basis for all subsequent accounting for the assets. The
expenses and the goods purchased are shown at the value at which they are incurred.
Example: Land bought for Rs. 5,00,000 will be shown at purchase price irrespective of
the market value.
4 .Convention of full disclosure
This convention requires a business to disclose the following:

All the accounting policies adopted in the preparation and presentation of financial

statements.
If there is any change in the accounting policies in the current year as compared to

the previous year/s, the effects of such changes and the reason/s thereof.
The implications (in terms of money value) on the financial statements due to such
change.

5. Convention of double aspect

This concept states that every transaction has two aspects. One is the receiving aspect and
the other is the giving aspect. In accounting language, these two aspects are called debit
and credit.

The claims on assets will always be equal to the assets. The claims on assets may be of the
owners or of the outsiders (creditors). While the claims of owners are called Equity or
Capital, the claims of outsiders are called Liabilities. Therefore, total liabilities are equal
to total assets. This concept gives rise to the balance sheet equation, i.e., Assets=Liabilities
+ Capital.
6 .Convention of materiality
This convention states that the benefit derived from measuring, recording, and processing
a transaction should justify the cost of doing it.
7. Convention of consistency
This convention requires that the accounting policies must be consistently applied year
after year. Consistency is required to help comparison of financial data from one period to
another. Once a method of accounting is adopted, it should not be changed. A change in an
accounting policy may be done only when:

It is required by law
It is felt that the new policy reflects the financial performance or position better

than the old policy.

Such changed policy must be consistently applied for the subsequent periods. As
stated under the full disclosure convention, the change in the accounting policy
along with the reason/s and the financial implications on the financial statements
should be disclosed to the users.

8. Convention of conservatism or prudence

Accountants follow the rule anticipate no profits but provide for all anticipated
losses. Whenever loss is anticipated, sufficient provisions should be made. But if a profit
is anticipated, it should not be recorded until it is actually realized.
Q2. Write down a table with the accounts involved / the nature of account/its affects/

debit or credit.
Please have the transactions given below and prepare the table as per the instructions
given above for each transaction.

a. 1.1.2011 Sunitha started his business with cash Rs. 5,00,000

b. 2.1.2011 Borrowed from Malathi Rs. 5,00,000
c. 2.1.2011 Purchased furniture Rs. 1,00,000
d. 4.1.2011 Purchased furniture from Meenal on credit Rs. 1,50,000
e. 5.1.2011 Purchased goods for cash Rs. 50,000
f. 6.1.2011 Purchased goods from Ram on credit Rs. 2,50,000
g. 8.1.2011 Sold goods for cash Rs. 1,25,000
h. 8.1.2011 Sold goods to Shyam on credit Rs. 55,000
i.

9.1.2011 Received cash from Shyam Rs. 25,000

j. 10.1.2011 Paid cash to Ram Rs. 90,000

Solution:
Analysis of Transaction under Traditional Approach
Sl
no.

Accounts
Involved

Nature of
Account

Affects

Debit/Credit

Cash a/c
Capital a/c

Real
Personal

Cash is coming in
Sunita is the giver

Debit
Credit

Cash a/c
Loan from
Malathi

Real
Personal

Cash is coming in
Malathi is the giver

Debit
Credit

Furniture a/c
Cash a/c

Real
Real

Furniture is coming in
Cash is going out

Debit
Credit

Furniture a/c
Meenal a/c

Real
Personal

Furniture is coming in
Meenal is the giver

Debit
Credit

Purchase a/c
Cash a/c

Nominal
Real

Purchase is an expense
Cash is going out

Debit
Credit

Purchase a/c
Rams a/c

Nominal
Personal

Purchase is an expense
Ram is the giver

Debit
Credit

Cash a/c
Sales a/c

Real
Nominal

Cash is coming in
Sales is revenue

Debit
Credit

Shyams a/c
Sales a/c

Personal
Nominal

Shyam is the receiver

Sales is revenue

Debit
Credit

Cash a/c
Shyams a/c

Real
Personal

Cash is coming in
Shyam is the giver

Debit
Credit

Rams a/c
Cash a/c

Personal
Real

Ram is the receiver

Cash is going out

Debit
Credit

Q3. The following items are found in the trial balance of M/s Sharada Enterprise on
31st December,
2000.
Sundry Debtors Rs.160000
Bad Debts written off Rs 9000
Discount allowed to Debtors Rs. 1800
Reserve for Bad and doubtful Debts 31-12-1999 Rs. 16500
Reserve for discount on Debtors 31-12-1999 Rs. 3200
You are required to provide the bad and doubtful debts at 5% and for discount on
debtors at 2%. Show the adjustments for bad debts, bad debts reserve, discount
account, and provision for discount on debtors.
Answer: Solution:
The amount debited to P&L account towards RBD is computed as follows:

Old RBD

= Rs. 16500

(-) Bad debts

= Rs. 9000

Balance

= Rs. 7500

New RBD @5% on160000 = Rs. 8000

RBD to be provided

= Rs. 500 (8000-7500)

The amount debited to P&L account towards Reserve for Discount on Debtors is
computed as follows:
Good Debtors = Rs.160000 Rs.8000 (New RBD)

= Rs.152000

Old Reserve for Discount on Drs

= Rs.3200

Less Discount on Drs

= Rs.1800

Balance Reserve

= Rs.1400

New Reserve for Discount at 2% on good Drs 152000 = Rs.3040

Reserve for Discount to be provided now

= Rs.1640 (3040 -1400)

In the balance sheet, the Sundry debtors are reduced by bad debts shown outside the trial
balance, the new RBD, discount on debtors shown outside the trial balance and the new
Reserve for discount on debtors.
Q4. The reports prepared in financial accounting are also used in the management

accounting. But there are few major differences between financial accounting and
management accounting.
Explain the differences between financial accounting and management accounting in
various dimensions.
Answer: Distinction Between Management Accounting and Financial Accounting
Financial accounting is the preparation and communication of financial information to
outsiders such as creditors, bankers, government, customers, etc. Another objective of
financial accounting is to give complete picture of the enterprise to shareholders.
Management accounting on the other hand, aims at preparing and reporting the financial
data to the management on regular basis. Management is entrusted with the responsibility

of taking appropriate decisions, planning, performance evaluation, control, management of

costs, cost determination, etc. For both financial accounting and management accounting
the financial data are the same. The reports prepared in financial accounting are also used
in management accounting. But there are a few major differences between financial
accounting and management accounting
Differences Between Financial Accounting and Management Accounting
Dimension

Financial accounting

Management accounting

Users

The primary users of financial accounting

information are external users like
shareholders, creditors, government
authorities, employees, etc.

The primary users of

management accounting are
internal users like top, middle,
and lower level managers.

Purpose

Reporting financial performance and

financial position to enable the users to take
financial decisions.

To help the management in

planning, decision making,
monitoring, and controlling.

Need

It is a statutory requirement. What to report,

how to report, how much to report, when to
report, in which form to report, etc. are
stipulated by Law or Standards.

It is optional. What to report,

how to report, how much to
report, when to report, in
which form to report, etc. are
decided by the management as
per the needs of the company
or management.

Expression of
information

Accounting information is always expressed Management accounting may

in terms of money.
adopt any measurement unit
like labour hours, machine
hours, or product units for the
purpose of analysis.

Reporting timing Financial data is presented for a definite

and frequency
period, say one year or a quarter.

Reports are prepared on a

continuous basis, monthly,
weekly, or even daily.

Time perspective Financial accounting focuses on historical

data.

Management accounting is
oriented towards the future.

Sources of
principles

Financial accounting is a discipline by itself

and has its own principles, policies and
conventions (GAAP).

Management accounting
makes use of other disciplines
like economics, management,
information system, operation
research, etc.

Reporting entity

Overall organization

Responsibility centers within

the organization

Form of reports

Income statement (Profit and Loss a/c)

Balance sheet
Cash flow statement

MIS reports
Performance reports
Control reports
Cost statements
Variance statements
Budgets
Estimate statements
Flowcharts

Q5. Draw the Balance Sheet for the following information provided by Sandeep Ltd..

a. Current Ratio: 2.50

b. Liquidity Ratio: 1.50
c. Net Working Capital: Rs.300000
d. Stock Turnover Ratio: 6 times
e. Ratio of Gross Profit to Sales: 20%
f. Fixed Asset Turnover Ratio : 2 times
g. Average Debt collection period: 2 months
h. Fixed Assets to Net Worth: 0.80
i. Reserve and Surplus to Capital: 0.50
Answer: Solution:
Working Notes
If Current Liabilities = 1

= 300000

Current Assets = 2.5

= 500000

Working Capital (2.5 -1) = 1.5

= 200000

Therefore Current Assets (2.5/1.5) x

300000

Current Liabilities (1/1.5) x300000

Liquidity Ratio = 1.5

=300000

Current Liabilities = 200000

=200000

Therefore Liquid Asset (200000 x 1.5)

Inventories (Current asset Liquid asset)
Stock Turnover Ratio = 6 times

= 1200000

Cost of sales (6 x 200000)

= 300000

Gross Profit Ratio = 20%

=1500000

Gross Profit
If Sales is 100; Gross Profit is 20
Hence cost of sales is (100-20) = 80
Therefore Gross Profit is (20/80) x 1200000
Sales ( Cost of Sales + Gross Profit)
Fixed Asset Turnover ratio = 2 times

= 600000

(Cost of sales/Fixed assets)

Therefore Fixed Assets (1200000/2)
Debtors Collection Period = 2 months

= 250000

(Months in a year /Debtors turnover)

Debtors Turnover Ratio (12/2) = 6 times
(Sales/ Debtors)
Debtors (1500000/6)
Fixed Assets to Shareholders Net worth =
0.80
Share holders Net worth(600000/0.80)

=750000

Reserves and Surplus to Capital = 0.50

=250000

If capital is 1: reserves and Surplus is 0.5

=500000

Reserves and Surplus + Capital =

Shareholders Net worth (0.5 +1 =1.5)
Reserves and Surplus (7500000 x(0.5/1.5)
Therefore share Capital
Balance sheet
Liabilities
Capital
Reserves and Surplus
Long-term Debt
Current Liabilities
Total

Rs.
500000
250000
150000
200000
1100000

Assets
Fixed Assets
Inventories
Debtors
Bank
Total

Rs.
600000
200000
250000
50000
1100000

Q6. Write the main differences between cash flow analysis and fund flow analysis.

Following is the balance sheet for the period ending 31st

March 2011 and 2012. If the current years net loss is
Rs.38,000, Calculate the cash flow from operating
activities. 31st MARCH
2011
Short-term loan to 15,000

2012
18,000

employees
Creditors
Provision for

30,000
1,200

8,000
-

doubtful debts
Bills payable
Stock in trade
Bills receivable
Prepaid expenses
Outstanding

18,000
15,000
10,000
800
300

20,000
13,000
22,000
600
500

expenses
Answer:
Difference between Cash Flow Analysis and Fund Flow Analysis

Cash Flow Analysis

1. It is concerned only with the change in cash

Fund Flow Analysis

1. It is concerned with change in working

position

capital position between two balance sheet

dates.

2. It is merely a record of cash receipts and

2. Net effect of receipts and disbursements are

disbursements

recorded.

3. Cash is part of working capital and therefore

3. An improvement in funds positions need not

an improvement in cash position results in

result in improvement in cash position

improvement in the funds position

4. It is cash based
Solution:

4. It is accrual based
Statement Showing Cash Flow from Operating Activities

Net Loss
Add: Decrease in current assets

(38,000)

Decrease in stock

2000

Decrease in prepaid expenses

200

Increase in current liabilities

Increase in outstanding expenses

200

Increase in bills payable

2000

+4400
(33600)

Less: Increase in current assets

Increase in short-term loan to the employees

3000

Increase in bills receivable

10000

Decrease in creditors

22000
1200

(36,200)

Decrease in provision for doubtful debts

Net cash lost in operating activities

(69,800)